2018 Is About Asset Location, Not Asset Allocation

As a financial planner, I always hope for the best but plan for the worst. For the time being, I am hopeful that the administration’s economic experiment, of adding stimulus to the economy through the Tax Cuts and Jobs Act (TCJA), will benefit business and the overall wealth of my clients. To test this theory, I have spent countless hours over the past couple of months meeting with investment strategists to get their take on the economy and the markets. I have heard arguments on both sides – from the popular opinion of both politicians and Wall Street that deficits don’t matter, and the tax cuts will only jump start the already growing economy, to the doom and gloom of economists that believe we have just put gasoline on a fired-up economy, which will result in Armageddon for the markets.

Traditionally, the argument has been that asset allocation is the secret sauce that will protect one’s wealth. But the TCJA has led financial planners to consider a suite of other moving parts. The TCJA elevates the issue of how one will locate their income and savings between personal and business income, and between pre-tax tax-deferred, after-tax taxable, and after-tax tax-free savings over the next few years. The decisions you make today could result in more than a 20% difference in the return on your money in the long run.

Here are 10 asset location questions one should consider in maximizing ones return under the new tax code:

With the temporary reduction in individual income tax rates, it may make sense to shift from pre-tax to after-tax savings to build up your cash reserves before your tax rate inevitably increases again.

Consider where your capital gains assets are held to maximize your gains and losses. If your long-term capital gains assets are held outside of your retirement accounts, you will only be taxed the capital gains rate rather than the higher income tax rate when withdrawing funds.

Consider the effect of lower income tax rates today when evaluating how much to contribute to your retirement account. You should still maximize your employer retirement account match but consider deferring additional contributions until the tax breaks sunset in 2025.

Will you still be able to itemize your deductions in 2018? If the new standard deduction is larger than any itemized deductions, consider bulking your donations in one year (or setting up a donor-advised fund) to reduce your tax burden.

If you are 70 ½ or older and you don’t benefit from itemized deductions, consider donating your required minimum distribution (RMD) to charity. This year Congress made permanent the ability to annually donate up to $100,000 ($200,000 per couple) from your tax-deferred retirement account directly to a charity of your choice, tax free.

If you have a high-deductible health plan, with at least a $1,350 deductible for an individual or $2,700 for a family, consider a health savings account (HSA). A HSA allows you to set aside money on a pre-tax basis and even earn interest tax-fee to pay for medical expenses. You can also transfer money from your HSA to an IRA tax-fee if not subject to a RMD.

If any of your income can be reclassified as business income, then examine whether you are eligible for the new 20% tax-free income exemption available for pass-through companies.

If you are a business owner and limited by the new cap on state and local tax deductions, look at whether you can attribute state income taxes, property taxes, and professional fees to your business.

If you own a second home or investment real estate and cannot deduct the mortgage, consider creating a real estate entity to shift the expenses and income to a corporate return which can benefit under the new rules.

Contribute to a Roth IRA if you are under the income limits to take advantage of the tax cuts before they sunset. If you are over the limit, investigate the rules on a backdoor Roth IRA – circumventing income limits by contributing to a Traditional IRA then converting it to a Roth IRA.

No one can control the markets or the economy but taking advantage of these tips can make a big difference by putting you in the driver’s seat to maximize your future returns and your financial independence.

John E. Girouard is the Author of Take Back Your Money and The Ten Truths of Wealth Creation, a registered principal of Cambridge Investment Research, and an Investment Advisor representative of Capital Investment Advisors, in Georgetown D.C.